What is Fair Market Value?

You’ve heard the term Fair Market Value many times. Fair Market Value is indeed the most common standard of value used in business valuations, but what does it actually mean?
Fair Market Value is typically defined as “the price at which the property would change hands between a willing buyer and a willing seller, when the former is not under any compulsion to buy and the latter is not under any compulsion to sell, both having reasonable knowledge of relevant facts.”  (Source: Treas. Regs. §20.2031-1(b) and §25.2512-1; and Rev. Rul. 59-60, 1959-1 C.B. 237)
You’ll see many slight variations on the Fair Market Value standard, but the above is the most broadly used and accepted definition.
Users of business valuations should be aware that the term Fair Market Value generally carries with it several basic assumptions that can have significant influence on the value analysis and concluded value:
  • Both the buyer and seller are hypothetical people
  • The buyer is at arms-length, able and willing to trade, prudent and seeking a fair return
  • Generally a financial buyer without benefits attributable to synergies
  • The business would be held on the market for a reasonable period
  • The business would sell for cash or equivalent
  • Both parties are well informed about the business and the market; the effect of business and financial risk, control and marketability characteristics on value; and the returns available from alternative investments.
Business owners, shareholders, attorneys, CPA’s and other users of valuations should also know that while Fair Market Value is applicable for many of the typical uses of business valuations, it isn’t always appropriate. Some other common standards of value in business valuation are listed in the following table:
Standard of Value Defined by:
Fair Value  (dissenting SH, minority oppression cases) Minority oppression statutes, California Corporations Code §2000.  Study case law to determine how interpreted.
Fair Value  (financial reporting) FASB, SEC.
Investment Value International Glossary of BV Terms.  When the buyer is known (not hypothetical).
Most Probable Selling Price International Business Brokers Association.
It is critical that the correct standard of value be used in your next business valuation.  For more information or help with a current business valuation need or exit strategy, contact Al Statz at 707-778-2040 or alstatz@exitstrategiesgroup.com.